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South African interest rates are on lower trend

The upswing in commodity prices is a positive for South Africa despite the ongoing underperformance ...

The upswing in commodity prices is a positive for South Africa despite the ongoing underperformance of gold.

In September last year, at the height of the emerging markets crisis, interest rates were put up to 22% to prevent currency outflow as the government had no foreign currency to shore up the rand. As the global economy improves, interest rates have now been brought down to 15% and inflation should be a respectable 5% this year.

With the prime overdraft rate at 16%, Michael Hughes, head of emerging markets for Flemings, estimates GDP growth should be 0.5% this year, rising to 4% to 5% in 2000.

Hughes says: "Commodities are notoriously difficult to forecast but it is clear that prices have stopped falling and, in some cases, have even started rising. By the year 2000, the Asian economies should be growing at 5% or so and that should enable the market to recover."

Oil has been the most obvious winner - its price almost doubling to $18 a barrel year to date.

The commodities market has already been pre-empting the economy, according to Charles Heenan, investment manager in Stewart Ivory's emerging markets team.

He says: "There was a huge rally in early March, when all the stocks moved up 20% in a few days. Commodity companies' share prices are one of the leading indications of economic recovery and there tends to be a 12-month lead time. There are a whole lot of false starts as people try to get in as early as possible."

He warns that the long lead time means a lot of the market gains are based purely on expectation.

The big exception to the upcoming commodity turnaround is the South African export par excellence - gold. Gold is in apparently terminal decline, the price coming down from its 1980 $850 an ounce peak to the current $255 an ounce all-time low.

Heenan says that gold houses in South Africa have been restructuring, concentrating on higher quality ore and reducing costs.

There is demand for 1,000 tonnes more gold than is mined every year. Some of this is made up in the form of recycled gold but that should leave a healthy demand still.

Heenan points out that there are something like 28,000 tonnes of gold in central banks around the world. If this were allowed to re-enter the market, the oversupply, on a short- to medium-term basis at least, would be huge. This threat is helping to skew the price downwards.

In expectation of further price cuts, jewellery producers have stopped buying gold. When they do buy, it will tend to be in bursts, making the gold price volatile and this is reflected in the stocks - the share price of Anglo Gold, the largest producer in the world, has been jumping around a 25% range since the beginning of the year without following any particular trend.

Heenan says: "Gold is seen as an inflation hedge and the price of gold will go up in times of rising prices. The general sentiment is that inflation will remain low but if that turns around, so should the demand for gold."

Hughes is not too concerned. He says: "In South Africa, gold is nothing like as important as it used to be. There are other metals in the commodities sector but also there is diversification into services and manufacturing."

Heenan thinks there is still a long way to go. He adds:

"So long as there is not more effort put into education and labour reform, South Africa

will remain commodity driven and, long term, we believe commodities are on a downward trend."